Roaring First Half Gives Way to Tech Stumble

By JSF Financial on Aug 21 in Economics, Investing, Market Update, Politics

Quick Take: Stocks and bonds continued their upward trend in June, bolstered by mega technology companies and continued signs of cooling inflationary pressure.^[1] Disappointing earnings led to a tech selloff in July, while the market now expects the first rate cuts in September.^[2],[3]

The summer kicked off in high gear, setting records. The US stock market notched blistering all-time highs in June, as positive momentum led the S&P 500 to register its 31st record high for the year. ^[4] Optimism over the economy’s resilience, improved corporate earnings, AI, and cooling inflation combined to support stocks.^[5]

The S&P 500 index added 3.5% in June, marking its seventh positive month in the last eight.^[6] By the close of June, the technology-heavy NASDAQ had soared almost 6%.^[7]

Stocks weren’t alone. The Treasury bond market rallied for a second-straight month in June, though trading was volatile.^[8] Bond market gains were fueled by signs of inflation and the labor market tapering off.^[9]

Following that performance, July marked a volatile month of trading, where tech names sold off and small cap stocks – companies with typically less than $2 billion in market capitalization – outperformed. Despite weakness from the “Magnificent Seven” largest tech companies, the S&P500 rose 1.1% while the technology-heavy NASDAQ underperformed, falling 0.8% throughout the month.^[10]

Treasury markets posted another month of gains as the Federal Reserve seemed to nod at rate cuts coming in September. The 10-year Treasury yield ended July at 4.107%,^[11] down from 4.342% at the end of June.^[12] This is the largest monthly drop so far this year in yield, which translates to the biggest increase in bond prices year-to-date.

First Half Tech Dominance

Over the first half of 2024, the S&P 500 clocked in a 14% advance – only slightly underperforming 2023’s stellar first half – but it was still one of the strongest first half performances since the late-1990’s dotcom bubble.^[13]

Source: https://www.blackrock.com/corporate/literature/market-commentary/weekly-investment-commentary-en-us-20240624-sticking-with-us-tech-surge.pdf

Tech names drove markets higher. In fact, five mega tech companies – Nvidia, Microsoft, Amazon, Meta and Apple – were responsible for nearly 60% of S&P 500 gains, on the back of excitement over generative artificial intelligence.^[14]

Chipmaker Nvidia briefly dethroned Microsoft in June as the world’s most valuable company, trading on a market capitalization value above $3 trillion.^[15] Nvidia is known for building more than 80% of the graphics processing units (GPUs) used in artificial intelligence (AI) technology.^[16] Powered by high-demand for its processing chips, Nvidia alone has been responsible for 30% of the S&P 500’s first half total return.^[17]

Lopsided Performance

So tech is still king, but how much has it outperformed the rest of the market?

Source: https://www.wsj.com/finance/stocks/ai-frenzy-propels-stocks-to-monster-first-half-620229cc?mod=article_inline

The S&P 500 is a market capitalization-weighted index, which means that bigger companies end up contributing more to index performance. As large companies get bigger, this becomes a self-reinforcing cycle.

One way to keep track of market concentration is to track the performance of an equal-weighted version of the S&P 500, where each member has the opportunity to contribute evenly to the index.

In comparison to the (market cap weighted) S&P 500’s 14.5% increase in the first half,^[18] This represents the most significant difference in the first half of a year since 1990, reflecting the outsized influence of a few high performers.^[19]

A small number of stocks leading the way is not necessarily cause for concern. The concentration of performance has occurred because tech firms continue delivering on – and beating – lofty earnings expectations. High profit margins, strong balance sheets, and flush cash levels all contribute to the case for technology names.

The tech outperformance is also overshadowing gains that are broadening out to other sectors. Profit margins in other sectors are improving as inflation pressures subside – eight of 11 S&P 500 sectors experienced higher first quarter margins compared to the same period last year.^[20]

That doesn’t mean there isn’t room to the downside in stocks, but overall the health of US corporations is encouraging.

Tech Stocks Slip Amidst Q2 Earnings Season

Investors got a look at numbers in July during 2^nd quarter earnings reports. Numbers were generally positive — with approximately 91% of the S&P 500 companies reported, approximately 78% of businesses have beaten analyst expectations. ^[21]

However, disappointing earnings reports from major tech companies undermined confidence in the sector.^[22] Despite the optimism surrounding AI, Q2 earnings reports indicated that the high costs of AI infrastructure were yielding only modest returns.^[23]

Amidst the volatility in July, investors moved out of the so-called Magnificent Seven, in favor of interest rate sensitive stocks.^[24] Small and mid-cap companies tend to be sensitive to the interest rate changes anticipated by the market. As a result, the small cap Russell 2000 index outperformed, gaining 10% during the month of July alone.^[25]

In addition to small caps, sectors including financials, real estate, utilities and industrials all benefited from the rotation.^[26]

Source: https://www.reuters.com/technology/global-markets-marketcap-graphic-2024-08-01/

Despite a sell-off in technology names, the broader markets held ground. By the end of July, the S&P 500 was still up 15.78% on the year.^[27],[28]

Progress Towards Lower Inflation

The Federal Reserve met again in June and July, where they kept interest rates unchanged. Encouragingly, its statement released after the meeting noted “modest further progress” towards its 2% inflation objective, replacing language in the March statement that had noted a “lack of progress.” ^[29],[30]

Investors focused on May’s CPI inflation report, which came in below expectations to suggest headline prices are cooling.^[31] The Fed’s preferred measure of underlying inflation (PCE) also decelerated in May, which supported the case for lower rates this year.^[32] This core personal consumption expenditures price index, excluding food and energy items, saw its smallest advance in six months and steadily declined from 2.7% in March to 2.5% in June.^{[33]^,[34]}

While still elevated, inflation appears to be headed toward the central bank’s 2% target.

Source: https://www.cnbc.com/2024/07/26/pce-inflation-june-2024-.html

Data released in June indicated a rebound in household spending and solid growth in incomes, offering hope that price pressures have been tamed without causing lasting damage to consumers.^[35] However, University of Michigan’s consumer sentiment index fell to its lowest level in eight months for July, with election uncertainty clouding the picture, and high prices disproportionately impacting low-income households.^[36] Rate cuts would come as a relief for the rising share of past-due credit balances, now at the highest since 2012.^[37]

Source: https://www.bloomberg.com/news/articles/2024-06-28/fed-s-favored-price-gauge-rises-at-slowest-pace-in-six-months?embedded-checkout=true

September Rate Cut in Sight

July ended with a meeting of the Federal Reserve where the central bank opted to maintain interest rates at its two-decade high of 5.25% to 5.5%. Fed chairman Jerome Powell set the stage for the first rate cut in four years, citing greater progress towards lower inflation and a cooler jobs market.^[38]

After reducing projections to one cut in June, the Fed returned to signaling three rate cuts by the end of the year.^{[39]^,[40]} Traders now put the chances of a September rate cut at 100%.^[41]

Looking Ahead

Markets have been on a tear ahead of the expected interest rate cut. In the 9 months since its Oct low, the S&P 500 has rallied 34%.^[42] With the first cut fully priced in, we are also headed into what’s historically been the worst two months of the year for stock markets, August and September.^[43]

As we move through the second half of the year, politics will likely grab more headlines. Looking at past market data, potential election outcomes tend to have minimal impact on financial market performance over the medium to long term.^[44] Market returns are more dependent on inflation and underlying economic trends.^[45]

Concerns about political winds are natural, but it’s important to focus on your long-term plan without letting emotions override a carefully determined strategy. Please reach out if you have any questions, changes in circumstances, or want to discuss your portfolio or the markets.

As we say goodbye to the relaxing days of summer and welcome the crisp excitement of fall and the new school year, let’s embrace the vibrant colors and fresh beginnings that the season brings. Here’s to new challenges and the energy that comes with this invigorating season!

From Your Friends at JSF

The information expressed herein are those of JSF Financial, LLC, it does not necessarily reflect the views of NewEdge Securities, Inc. Neither JSF Financial LLC nor NewEdge Securities, Inc. gives tax or legal advice. All opinions are subject to change without notice. Neither the information provided, nor any opinion expressed constitutes a solicitation or recommendation for the purchase, sale or holding of any security. Investing involves risk, including possible loss of principal. Indexes are unmanaged and cannot be invested in directly.

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Asset Allocation and Diversification do not guarantee a profit or protect against a loss.

The Bloomberg Barclays U.S. Aggregate Bond Index measures the investment-grade U.S. dollar-denominated, fixed-rate taxable bond market and includes Treasury securities, government-related and corporate securities, mortgage-backed securities, asset-backed securities and commercial mortgage-backed securities.

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[1] https://www.ft.com/content/194b4ad0-a388-48d9-9ee5-c28aaedc0439

[2] https://www.reuters.com/technology/global-markets-marketcap-graphic-2024-08-01/

[3] https://www.reuters.com/markets/us/fed-expected-hold-rates-steady-open-door-september-cut-2024-07-31/

[4] Stocks surged during the first half of 2024. What’s next? | CNN

[5] https://www.bloomberg.com/news/articles/2024-06-16/asian-stocks-set-to-fall-as-global-sentiment-sours-markets-wrap

[6] https://www.cnbc.com/2024/06/27/stock-market-today-live-updates.html

[7] https://www.cnbc.com/2024/06/27/stock-market-today-live-updates.html

[8] https://www.bloomberg.com/news/articles/2024-06-28/treasuries-advance-after-key-inflation-data-matches-expectations

[9] https://www.bloomberg.com/news/articles/2024-06-28/treasuries-advance-after-key-inflation-data-matches-expectations

[10] Stocks, Bonds Climb After Fed Meeting | The Wall Street Journal

[11]Stocks, Bonds Climb After Fed Meeting | The Wall Street Journal

[12] AI Frenzy Propels Stocks to Monster First Half | The Wall Street Journal